2. 2.1.WHAT IS AUDITING STANDARDS?
Auditing standards are general guidelines to aid
auditors in fulfilling their professional responsibilities
in the audit of historical FSs.
They include consideration of professional qualities
such as competence (know how)&independence,
reporting requirements, and evidence. 2
3. 2.2. GENERALLY ACCEPTED AUDITING STANDARDS
The broadest guidelines available to auditors are
the 10 generally accepted auditing standards
(GAAS), which were developed by the AICPA.
10 (ten) generally accepted auditing standards fall
into three categories:
1. General standards
2. Standards of field work
3. Reporting standards
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4. Cont’d….
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Generally Accepted Auditing Standards
1. General
qualifications and
conduct
2. Field Work
performance of the
audit
3. Reporting results
1. Adequate technical
training and
proficiency
2. Independence in
mental attitude
3. Due professional care
1. Adequate & Proper
planning and supervision
2. Sufficient understanding
of the entity, its environment,
and its internal control
3. Sufficient competent
evidence
1. Whether statements were
prepared in accordance
with GAAP/IFRS
2. Circumstances when
GAAP/IFRS not consistently
followed
3.Adequacy of informative
disclosures
4. Expression of opinion on
financial statements
5. 2.2.1. General Standards
1. Adequate technical training & proficiency.
2. The auditor must maintain independence in
mental attitude in all matters relating to the audit.
3. The auditor must exercise due professional care in
the performance of the audit and the preparation of
the report.
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6. Due care : means that auditors are professionals responsible for
fulfilling their duties diligently and carefully.
Due care includes consideration of the completeness of the audit
documentation, the sufficiency of the audit evidence, and the
appropriateness of the audit report.
As professionals, auditors must not act negligently/carelessly
or in bad faith, but they are not expected to be infallible (fail
safe).
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7. 2.2.2. Standards of Field Work
1. The auditor must adequately plan the work and must properly
supervise any assistants.
2. The auditor must obtain a sufficient understanding of the entity
and its environment, including its internal control, to assess the
risk of material misstatement of the financial statements whether due
to error or fraud, and to design the nature, timing, and extent of
further audit procedures. 7
8. 3. The auditor must obtain sufficient
appropriate audit evidence by performing
audit procedures to afford a reasonable basis
for an opinion regarding the financial
statements under audit.
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9. 2.2.3. Standards of Reporting
The auditor must state in the auditor’s report:
1. Whether the financial statements are presented in
accordance with generally accepted accounting
principles (GAAP)/
2. The audit report must state whether the GAAP has
been consistently applied with that of the preceding
period.
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10. 3. When the auditor determines that informative
disclosures are not reasonably adequate, the auditor
must so state in the auditor’s report.
4. The auditor must either express an opinion regarding
the financial statements, taken as a whole, or state that
an opinion cannot be expressed, in the auditor’s
report.
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11. When the auditor cannot express an overall opinion,
the auditor should state the reasons in the auditor’s
report.
In all cases where an auditor’s name is associated with
financial statements, the auditor should clearly indicate
the character of the auditor’s work, if any, and the
degree of responsibility the auditor is taking, in the
auditor’s report.
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12. 2.3. ERROR AND FRAUD
Auditor Responsibilities with Respect to Financial Statements
Expression of an opinion
Reasonable assurance (word/ declaration) that material
misstatements are absent:
Includes errors (faults/mistakes), fraud/fake and other
irregularities
Plan and perform the audit in accordance with GAAS
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13. Types of Misstatements:
Some are Difficult to Detect!
Error: unintentional/chance misstatement
Fraud and other irregularities: intentional
Theft of assets, often employee fraud
Fraudulent financial reporting, often management fraud
Computer fraud and so on….
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14. PROFESSIONAL QUALIFICATION REQUIREMENTS
• A professional accountant should perform professional services
with due care, competence and diligence and has a continuing
duty to maintain professional knowledge and skill at a level
required to ensure that a client or employer receives the
advantage of competent professional service based on up-to-
date development in practice, legislation and techniques.
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15. PROFESSIONAL ETHICS
• All recognized professions have developed codes of professional
ethics. Professional ethics refer to the basic principles of right
action for the member of a profession.
• Professional ethics may be regarded as a mixture of moral and
practical concepts.
• Thus the professional ethics of an accountant would signify his
behavior towards his fellows in the profession and other
professions and towards members of the public.
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16. - Integrity: - An accountant should be straightforward, honest
and sincere in his approach to his professional work.
- Objectivity: - An accountant should be fair and should not
allow bias to override his objectivity.
- Independence: - When in public practice, an accountant should
both be and appear to be free of any interest which might be
regarded, whatever its actual effect, as being incompatible with
integrity and objectivity.
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17. - Confidentiality: - A professional accountant should respect the confidentiality
of information acquired in the course of his work and should not disclose any
such information to a third party without specific authority or unless there is a
legal or professional duty to disclose.
- Technical standards: - An accountant should carry out his professional work
in accordance with the technical and professional standards relevant to that
work.
- Professional competence: - An accountant has a duty to maintain his level of
competence throughout his professional career. He should only undertake
works, which he or his firm can expect to complete with professional
competence.
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18. - Ethical behavior: - An accountant should conduct himself with a good
reputation of the profession and refrain from any conduct, which might bring
discredit to the profession.
- Contingent fees: - The AICPA code of professional conduct prohibits a CPA
firm from rendering any professional services on a contingent fee basis.
- Responsibilities to colleagues: - The auditor should promote cooperation and
good relations with other members of the profession.
- Advertising: - The advertising should not be false or misleading,” should not
contravene “professional good taste,” should not make “unfavorable reflection
on the competence or integrity of the profession,” and should not” involve a
statement the contents of which” cannot be substantiated.
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19. LEGAL RESPONSIBILITY AND LIABILITY OF
AUDITORS
• The auditor is responsible for his report. The auditor then has
certain duties to fulfill to the users of the financial statements
that he reports on.
• Responsibilities impose liabilities if things go wrong.
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20. Liable for what?
• The CPA can be sued under the following legal concepts.
(i)Prudent man concept: - The auditor is responsible for exercising due
professional care, and he is subject to lawsuit if he fails to do so.
(ii)Liable for acts of others: - The partners are jointly liable for civil
actions against a partner.
(iii)Lack of privileged communication: - CPAs do not have the right
under common law to withhold information from the courts on the
grounds that the information is privileged.
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21. Audit reports
2.4. Types of Audit Reports
Four Types/Categories of Audit Reports
1. Standard unqualified audit report
2. Unqualified with explanatory paragraph or modified
wording
3. Qualified opinion
4. Adverse or disclaimer opinion
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22. 2.4.1.Parts of the Standard Unqualified Audit Report/A Clean
Opinion
This type of report is issued by an auditor when the financial statements
presented are free from material misstatements and are presented fairly in
accordance with the Generally Accepted Accounting Principles (GAAP),
which in other words means that the company’s financial condition, position,
and operations are fairly presented in the financial statements.
The auditor’s standard unqualified audit report contains seven distinct parts
1. Report title. Auditing standards require that the report be titled and that the
title include the word independent.
For example, appropriate titles include “independent auditor’s report,” “report of
independent auditor,” or “independent accountant’s opinion.
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23. 2. Audit Report Address-to company, SH’s or BOD
3. Introductory paragraph – contains 3 things
A. CPA firm done the audit, B. Types of FS,
C. preparation of the FS is the responsibility of management
4. Scope paragraph- is a factual statement about what the auditor did
in the audit.
GAAP/GAAS, Also in this paragraph states that the audit is designed to
obtain reasonable assurance that whether financial information is free
from material misstatement, the evidence accumulated written in this
paragraph.
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24. 5.Opinion paragraph- states auditor’s conclusion based on the
result of the audit.
It is an opinion rather than a statement of absolute fact or a
guarantee, it is professional judgment, state FS is prepared
according to GAAP
6. Name of CPA firm- legal & professional responsibility /signature
7. Audit report date: The appropriate date for the report is the one
on which the auditor completed the auditing procedures in the
field. Specimen for Unqualified.doc
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25. Conditions for Standard Unqualified Audit Report
The standard unqualified audit report is issued when the following
conditions have been met:
1. All statements — balance sheet, income statement, statement of
retained earnings, and statement of cash flows—are included in the
financial statements.
2. The three general standards have been followed in all respects
on the engagement.
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26. 3.Sufficient appropriate evidence has been accumulated, and the
auditor has conducted the engagement/commitment in a manner
that enables him or her to conclude that the three standards of field
work have been met.
4.The financial statements are presented in accordance with GAAP.
5. If there are no circumstances requiring the addition of an
explanatory paragraph or modification of the wording of the
report.
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27. 2.4.2. UNQUALIFIED AUDIT REPORT WITH
EXPLANATORY PARAGRAPH OR MODIFIED
WORDING
An unqualified audit report is issued, but the wording deviates from the
standard unqualified report. The unqualified audit report with explanatory
paragraph or modified wording meets the criteria of a complete audit
with satisfactory results and financial statements that are fairly presented,
but the auditor believes it is important or is required to provide additional
information.
Describe the 5 circumstances when an unqualified report with an
explanatory paragraph or modified wording is appropriate.
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28. A complete audit took place with satisfactory results and
financial statements that are fairly presented but the
auditor believes that it is important or is required to provide
additional information.
In a qualified, adverse, or disclaimer report, the auditor
either has not performed a satisfactory audit, is not
satisfied that the financial statements are fairly presented, or
is not independent. 28
29. Causes of such Audit Reports are:
1. Lack of consistent application of GAAP
2. Substantial doubt about going concern
3. Auditor agrees with a departure from promulgated
accounting principles
4. Emphasis of a matter
5. Reports involving other auditors
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30. The first four reports all require an explanatory
paragraph.
In each case, the 3 standard report paragraph are
included with out modification, and a separate
explanatory paragraph follows the opinion paragraph.
Only reports involving the use of other auditor use a
modified wording report. This report contains three
paragraphs and all three paragraphs are modified 30
31. 1. Lack of Consistent Application of GAAP
Audit report requires the auditor to call attention to
circumstances in which accounting principles have not been
consistently observed in the current period in relation to the
preceding period.
GAAP require that changes in accounting principles or their
method of application is to be a preferable principle and that
the nature and impact of the change be adequately disclosed
(Consistency and comparability)
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32. 2. Substantial Doubt About Going Concern
Significant recurring operating losses or working capital
deficiencies.
Inability of the company to pay its obligations as they come due.
Loss of major customers, the occurrence of uninsured catastrophes.
Legal proceedings, legislation that might jeopardize/expose or put at
risk the entity’s ability to operate.
The auditor’s concern in such situation is the possibility that the client
may not be able to continue its operation or meet its obligations for
reasonable period.
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33. 3. Auditor Agrees with a Departure from a Promulgated
Principle
A departure from a GAAP may not require a qualified or adverse
opinion.
However, to justify an unqualified opinion, the auditor must be
satisfied and must state & explain, in a separate paragraph or
paragraphs in the audit report, that adhering/following to the
principle would produce a misleading result in that situation.
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34. 4. Emphasis of a Matter
Under certain circumstances, the CPA may want to emphasize
specific matters regarding the financial statements, even though
the CPA intends to express an unqualified opinion.
E.g.
The existence of significant related party transaction
Important events occurring subsequent to the balance sheet date, etc.
Material uncertainties disclosed in the footnotes
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35. 5. Reports Involving Other Auditors
When the CPA relies on a different CPA firm to perform
part of the audit, which is common when the client has
several widespread branches or subdivisions, the
principal CPA firm has three alternatives.
Only the second is an unqualified report with modified
wording.
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36. A . Make no reference in the audit report.
When immaterial portion, well known or closely
supervised, or thoroughly reviewed the other auditor’s
work.
The other auditor is still responsible for his own report
& work in the event of lawsuit or SEC action.
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37. B. Make reference in the report
(modified wording report)
It is called shared opinion or report.
A shared unqualified report is appropriate when it is impractical
to review the work of the other auditor or when the portion of FSs
audited by other CPA is material in relation to the whole.
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38. C. Qualified opinion-
A qualified opinion or disclaimer/denial, depending on
materiality, is required if the principal auditor is not
willing to assume any responsibility for the work of other
auditor.
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39. 4.2.3. DEPARTURES FROM AN UNQUALIFIED AUDIT
REPORT
Identify the types of audit reports that can be
issued when an unqualified opinion is not
justified.
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40. Departures from An Unqualified Opinion
1. Scope limitation
2. GAAP departure
3. Auditor not independent
1.The Scope of the Audit Has Been Restricted (Scope Limitation):
When the auditor has not accumulated sufficient appropriate
evidence to conclude whether financial statements are stated in
accordance with GAAP, a scope restriction exists.
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41. 2. The Financial Statements Have Not Been Prepared
in Accordance with GAAP
(GAAP Departure)
E.g. if the client insists on using replacement costs for
fixed assets or values inventory at selling price rather
than historical cost as required by GAAP, a departure
from the unqualified report is required.
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42. 3. The Auditor Is Not Independent
Independence ordinarily is determined by Rule 101 of the rules of
the Code of Professional Conduct.
Three main types of audit reports are issued under these
conditions:
1. Qualified Opinion
2. Adverse Opinion
3. Disclaimer Opinion.
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43. 1. Qualified Opinion
A Qualified Opinion report is issued when the auditor encountered
one of the two types of situations which do not comply with generally
accepted accounting principles, however, the rest of the financial
statements are fairly presented.
This type of opinion is very similar to an unqualified or “clean
opinion”, but the report states that the financial statements are fairly
presented with a certain exception which is otherwise misstated.
A qualified opinion report can result from a limitation on the scope of
the audit or failure to follow generally accepted accounting principles.
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44. 2. Adverse Opinion
An Adverse Opinion is issued when the auditor
determines that the financial statements of client are
materially misstated and, when considered as a whole,
do not conform with GAAP.
It is used only when the auditor believes that the overall
financial statements are so materially misstated or
misleading that they do not present fairly the financial
position or results of operations and cash flows in
conformity with GAAP.
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45. 5. Disclaimer of Opinion
Is issued when the auditor could not form, and consequently
refuses to present an opinion on the financial statements.
This type of report is issued when the auditor tried to audit an
entity but could not complete the work due to various reasons
and does not issue an opinion.
It is issued when the auditor is unable to be satisfied that the
overall financial statements are fairly presented.
Explain how materiality affects audit reporting decisions
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46. MATERIALITY
A misstatement in the financial statements can be considered material if knowledge of the
misstatement would affect a decision of a reasonable user of the statements.
Levels of Materiality
Amounts are immaterial: When a misstatement in the financial statement exists but is
unlikely to affect the decision of a reasonable user, it is considered to be immaterial.
Amounts are material but do not overshadow the financial statements as a whole:
misstatement in the financial statement would affect a user’s decision but the overall
statements are still fairly stated and therefore useful.
Amounts are so material or so pervasive that overall fairness of the statements is in
question: highest level of materiality exists when users are likely to make incorrect
decisions if they rely on the overall financial statements when the highest level of
materiality exists
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47. Relationship of Materiality to
Type of Opinion
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Materiality
Level
Significance in Terms of
Reasonable Users’ Decisions
Type of
Opinion
Users’ decisions are unlikely
to be affected.
Immaterial Unqualified
Users’ decisions are likely
to be affected.
Material Qualified
Users’ decisions are likely
to be significantly affected.
Highly
material
Disclaimer
or adverse
48. Determine the appropriate audit report for a given audit
situation.
Auditor’s Decision Process
Determine whether any condition exists requiring a departure
from a standard unqualified report.
Decide the materiality for each condition
Decide the appropriate type of report
Write the audit report
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49. More Than One Condition Requiring a Departure or
Modification
The auditor is not independent.
There is a scope limitation.
There is a substantial doubt about the company’s ability to
continue as a going concern.
There is a deviation in the statements’ preparation in accordance
to GAAP.
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50. Type of Report
No of
paragraph
Standard Wording
Paragraphs Modified
Location of
Additional Paragraph
Standard unqualified 3 None None
Unqualified with
explanatory paragraph
4 None After opinion
Unqualified shared report
with other auditors
3 All three paragraphs None
Qualified—opinion only 4 Opinion only Before opinion
Qualified—scope and
opinion
4 Scope and opinion Before opinion
Disclaimer—scope
limitation
3 Introductory and opinion
paragraphs
Before opinion
Adverse 4 Opinion only Before opinion
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